What’s so different about an impact investment fund? Sue Whitbread gets down to detail and talks to Ben Constable-Maxwell, Head of Sustainable and Impact Investing, M&G Investments, about how and why he and his team are focused on delivering sound long term investment returns as well as having demonstrable positive impact on the world’s major social and environmental challenges.
SW: This is a hugely interesting sector and one growing in importance for advisers as well as investors. Can we start by taking a look back at what was the thinking behind the launch of the M&G positive impact fund last November?
BCM: It was a concept we had been working on for some time prior to launch. The scale of the world’s major social and environmental challenges was becoming ever more apparent and we recognised the role investors had to play in providing the capital to address those challenges. We thought there was a real opportunity to set up a fund specifically intended to address these social and environmental issues, and to do it via an investment product which could deliver superior investment returns over the long term.
Teaming up with my M&G colleague John William Olsen, who has nearly 20 years of experience in managing high conviction, long term oriented portfolios, we developed a proposition with a dual objective, to address those global societal challenges and to do this in a way that didn’t need to sacrifice investment returns. The intention was also very much to enhance the accessibility of impact investing to the broader investing public by launching a liquid, positive impact investment fund. It had previously been largely the domain of institutional investors and UHNW clients. We thought it was time for that to change.
SW: Let’s talk about the fund’s objectives now – can you explain what the fund seeks to achieve?
BCM: The fund has two specific objectives: The financial objective is to outperform the MSCI All Countries World Index over five years, although our initial time horizon when investing in a company stretches to ten years. The other objective is to deliver demonstrable positive impact through addressing the world’s major challenges such as climate change, pollution, social inequalities and health issues. It’s a growth orientated approach overall, looking at total returns with no specific income target.
The key difference with other forms of investing, ESG amongst them, is the dual objective nature of impact and the obligation to report on the impact element.
SW: So what is it that makes the fund distinctive and innovative in your opinion?
BCM: The fund is quite concentrated, holding between 25 and 35 stocks. Our key strength is in-depth analysis. In addition to extensive financial analysis, we conduct an extensive impact assessment which consists of a deep dive into all the positive and negative impacts of the business. It’s the depth of our approach which is key.
Reaching out to all types of investors is another important feature of this fund. It matters to us to make this fund available to small and large investors alike. To this end, we are totally transparent about our holdings and we publish the investment and impact thesis for all every stock owned in the fund. Finally, strong adherence to the tenets of impact investing in the listed equity space is something we take very seriously. These tenets are:
- Intentionality – clear intention of the companies we invest in to deliver impactful outcomes
- Additionality – the importance of your capital doing something that wouldn’t be achieved without it and/or the company would not have achieved
- Measurability/materiality – the ability to measure the impact and to be meaningful as a percentage of the overall business.
Adapting these principles to listed equities as rigorously as possible is very important to us. This means that we are pinpointing the impact of the companies that we invest in rather than the impact of the investor. Other investors are doing it to an extent, but it’s the depth of our analysis and the preservation of those principles which makes the fund stand out in our view.
SW: How important is it for you to engage with the professional adviser community? Are there particular types of client who you think the fund will particularly appeal to?
BCM: While it is essential for the Positive Impact fund to live up to institutional scrutiny, its aim is to broaden out its reach to a larger segment of the investing public. Fundamental to achieving this goal is the endorsement of the IFA community. To assist with this prior to launch, we went through a detailed client consultation process. This involved extensive work with the professional adviser community. Since launch, we’ve been busy helping to boost advisers’ knowledge about how impact investing fits within the broad spectrum of ESG and explaining to them how it adds a societal dimension to traditional forms of investing focused exclusively on returns.
The fund currently stands at around £33m in size. We have had great support from the IFA community and we are looking to build on this over time. Cementing our presence will take time but we are in it for the long haul. We recognise that impact investing is a relatively new concept, especially in listed equities. Not only does the impact investing sector need to mature, we also need to establish our fund credentials within this nascent sector.
SW: What’s the investment strategy you operate with the fund? How does the team decide which companies to actually invest in?
BCM: One of our starting points is to use the United Nations’ 17 Sustainable Development Goals (SDGs). These were introduced in 2015 by the UN to mobilise the word’s attention on the biggest challenges of our times: poverty, hunger, health, education, clean water, affordable energy amongst others. The SDGs are a phenomenal tool to help coalesce investors around impact but they are broad and high level. For the purpose of portfolio construction, we therefore decided to drill them down to six investable impact areas. Three of these are environmental, covering climate action, environmental solutions and circular economy and three are focusing on social issues, including health, decent work conditions and social inclusion.
We have developed an evaluation tool for identifying impactful businesses called the iii framework – with iii standing for investment/intention/impact.
The first ‘i’ stands for investment, where we assess if a company has a sustainable business model that will allow it to achieve competitive returns over a cycle. The second ‘i’ stands for intention. This is where we want to establish that the company has a clear intention to address some of the world biggest challenges, to ensure that it isn’t just an accidental outcome. We must check that the company’s actions back this up. We’re currently experimenting with machine learning to see if it helps widen our universe and help verify that intent is matched with action. The third ‘i’ stands for Impact and this is where we determine that a company’s positive impact more than offsets any negative elements, check that the impact can be measured using reliable metrics, that it is material as a proportion of the overall company and that it brings something new that would not have otherwise been provided.
From a total universe of around 3,500 to 4,000 companies available to us, approximately 150 stocks have passed our iii test and have made it onto the watchlist. To be included, each contender is reviewed by the impact team. The team regroups people from across the business (multi asset, emerging markets, small caps) which helps turn every stone and provide healthy challenges from different perspectives. This is a great way to make sure that we’re not letting through companies which might have great investment characteristics but are perhaps not greatly impactful – and vice versa.
From that 150 approved list, the fund manager builds a portfolio of 25-35 stocks. Timing and valuation will be the key factors for inclusion in the portfolio.
There’s final element worthwhile highlighting. We classify impactful companies into three categories.
- Pioneers – early stage, small businesses which are disruptive and capable of transforming the dynamics of an industry
- Enablers – companies which provide tools for other companies to deliver the impact. (diagnostic tools, lab equipment, software for example
- Leaders – these tend to be larger, more mature businesses which are driving sustainability and positive impact in their field.
By investing in different types of business models, we bring useful diversification to the portfolio in addition to the six impact areas.
SW: So how do you go about measuring impact?
BCM: This is arguably the biggest challenge for impact investors. Due to our fundamental, bottom-up stock picking approach, our impact measurement starts at the stock-specific level and focuses on the impact each company is delivering on the world’s major societal challenges. We start with the Sustainable Development Goals (SDGs) as an overarching framework, drilling down to the underlying 169 KPIs that give more specific detail to the high-level Goals. Many – but not all – of these KPIs can be used by investors to measure and monitor impact (some of the KPIs are for use by governments or the public sector). For every fund holding we need to see a primary contribution to one of the SDGs as measured by these underlying metrics.
So for each of our six impact areas, using the SDG framework and proprietary inputs, we have set out 3-4 metrics to define each company’s impact. For example, if we look at one of the fund’s six impact areas – Climate Action – we can assess the company’s contribution to this challenge by measuring the megawatt hours of renewable energy generated or the number of homes powered by renewable energy… or in tons of greenhouse gas avoided by the company’s activities. In our ‘Better Health’ basket, we focus on numbers of patients reached with improved healthcare or better access to healthcare. And in ‘Circular Economy’ the focus is on tonnes of waste avoided or recycled.
These are early days for impact measurement and we will continue to develop our process. Better company-level disclosure on impact, which is improving but is far from perfect, will in turn help us refine our own measurement approach. Our first annual impact report later this year will aim to show the impact achieved by every company since our investment in it. Over time, we will monitor how the impact develops, reviewing progress regularly and challenging management if the business’ impact is out of line with our expectations.
We use the ‘iii’ framework as I’ve explained but within that we employ a ‘results chain’ – or logic chain – methodology. This is an approach employed by the likes of World Health Organisation and the Gates Foundation to analyse more precisely the impact generated by each investment, by splitting out the ‘output’, ‘outcome’ and ‘impact’. For example, if we look at a company which makes wind turbines, then in simple terms the output would be the number of turbines created. However, when looking at the outcome, this would be that question of megawatt hours of renewable energy generated. Finally, the impact would be the number of people who can power their homes through wind and clean energy leading to reduction in climate change by reducing emissions of greenhouse gases. We need to follow these things through.
It’s a useful tool and pretty universally applicable to measure impact across a broad range of areas such as health, renewables, education, etc. We do encounter businesses which are highly impactful but are at an early stage in articulating their impact. In such cases, we see our role as supporting them in improving their disclosure, which in turn enables us to understand to what extent they are delivering impact.
The measurement process is crucial in assessing the delivery and progress of impact but also in communicating to our clients. They will expect full disclosure and we will need to deliver it. We recognise the interest in being able to articulate impact at a higher level (i.e. fund level or impact basket level) but this comes with its own challenges. It’s something we are working on and it will get better as corporate impact reporting improves.
So we believe strongly in transparency and this means holding ourselves to account in the same way that we do for the companies we invest in. It requires a lot of work and in-depth analysis, but quality of measurement will be the litmus test for impact investors. Society demands it and so do our investors and their advisers.
SW: How does the fund enable positive corporate and client engagement?
BCM: As regards corporate engagement, we’re a small fund at the moment and it could be that this would restrict our engagement, but as a large fund management house with a reputation as a highly engaged, long-term investor, we are lucky to have good access to company management and a voice that has a decent chance of being listened to. The dialogue we have with corporates is already very interesting. They tend to be very open – sometimes intrigued – by the idea of us an explicitly impact investor investing with them. We have found this opening up differentiated avenues of discussion with company management. Impact-oriented discussions need to go beyond talking about earnings results, balance sheet issues or even ESG (although all are still important) and move on to the company’s reason – or purpose – for being and how it is delivering on that purpose through impact. Impact investors have a role to play in challenging companies to go further.
This leads to a highly engaged discussion. Again, these are early days and it’s hard to determine the impact of these discussions given our relatively small size, but we feel the quality of the dialogue is driven by impact. We and some others are acting slightly as a vanguard here. We believe that impact investing is only going to grow. We can help the companies to develop their own impact metrics and get ahead of the curve as other investment groups will certainly expect to see these as the years go on.
It’s similar when it comes to communicating with potential investors in the fund. Through the process of consultation which we engaged in prior to launch, we had interesting discussions about what we’re trying to achieve and how we can enable our customers to participate. We spent a lot of the time discussing impact, more than we spent on the investment process and portfolio risk characteristics. Of course the latter are of huge importance but the former is clearly an engaging topic for advisers and clients alike. If we can demonstrate that you can achieve good long term investment returns whilst making a difference to society, it is clearly a compelling proposition.
Interestingly, we are in the process of developing a microsite on our main website (and potentially an app). This will help clients and investors to tap into the 17 Sustainable Development Goals and the six impact areas to see progress and where their money is invested as well as the impact those investments are making. This is a great opportunity to transform the quality of engagement which advisers have with their clients around matters of investment and is very exciting in that context.
To date, our industry has failed to reach out to investors and hasn’t been engaging enough. Impact investing needs total transparency. It is such a fascinating, narrative-rich area which lends itself very naturally to more informed communications to build stronger engagement with clients.
About Ben Constable-Maxwell, Head of Sustainable and Impact Investing, M&G
Ben joined M&G in 2003 as an Investment Specialist supporting the Global Equities team. He then moved to the Corporate Finance and Stewardship team in 2013, where he began focusing on corporate governance and ESG at international companies. Ben has been responsible for developing the incorporation of ESG in M&G’s investment processes and sits on M&G’s Responsible Investment Advisory Committee, which oversees Responsible Investment activities at M&G including the ¬ rm’s membership of the UNPRI. Ben graduated from the University of Newcastle-upon-Tyne with an Honours Degree in Classics before spending four years in the Equities team at Invesco Perpetual.